Everest Kanto

Investments with a two-three-year perspective can be considered in the stock of Everest Kanto Cylinders, a leading manufacturer of high-pressure CNG (compressed natural gas) and industrial cylinders. Our optimism stems from the relatively strong demand for EKC’s products when compared to that of other mid-tier capital goods and manufacturing companies, besides the abating pressure on input costs, and the company’s highly diversified geographical presence.

At current market price of Rs 184, the stock trades at about nine times its likely FY10 per share earnings. While this may appear at a premium to that of the market, it is supported by the company’s fairly steady growth prospects. That said, investors may be better off accumulating this stock in small lots, given the heightened volatility in the broad markets.
Earnings scorecard

In the last two years, the company has grown its consolidated revenues at a compounded rate of over 50 per cent, while profits soared by over 78 per cent.

Even in recent times, despite the all the mayhem caused by the unprecedented rise in input price and the slowdown in global economies, the company has done well to maintain its growth rates.

In the quarter ended September-08, EKC put up a 73 per cent growth in sales, driven mainly by its recent acquisition of US-based CP Industries (17 per cent of revenues) and the commencement of production in its China plant.

Profit growth, however, remained a little curtailed at 52 per cent, attributable to the increased interest cost (as the acquisition of CP Industries was funded primarily through debt) and high depreciation.

It is, however, the company’s performance on the margin front that inspires more confidence. Despite the spurt in raw material prices, EKC managed to up its EBITDA margins by over 1.1 percentage points to 31.8 per cent.

This was made possible due to the company’s sufficiently large build-up in inventory that insulated its margins. Besides, the present softening trends in input prices may only help it maintain its margins from here on.
Demand dynamics

While a high crude oil price would have substantially catalysed the demand for CNG-based energy options considering that they would then have been more cheap and viable in comparison, their demand may well continue to remain robust despite the substantial fall in oil price. This is because regardless of the oil price, most countries in the long run are likely to be on the constant look-out for ensuring their energy security. So, while blips in oil price may impact the near-term demand dynamics for CNG-based applications, their long-term picture continues to look promising.

On that note, considering that EKC’s expanded capacities (capacity to manufacture over one million cylinders per year), which compares with some of the global names in cylinder makers such as Beijing Tianhai Industry Company (China) and Faber Cylinders (Italy), puts its future growth prospects in better light. That EKC only recently (in July-08) hiked the price of its cylinders also underscores the strong demand for its products.

Another key point that strengthens the investment argument in EKC’s favour is its strong foothold in the domestic market. With an 80 per cent market share in India, EKC appears best placed to benefit from the Supreme Court injunction mandating the use of CNG as auto fuel for heavy vehicles in New Delhi and the city gas distribution initiatives of the government.

While these factors, plus the fact that some of the leading car makers in the country have announced CNG variants of cars, may go a long way in paving the company’s future growth story, it needs to be understood that the CNG, as a concept, is still in its nascent stage in India.

So, while that leaves a lot of room for future growth, it also leaves quite a few issues for the government to put in place, including improving CNG infrastructure, before CNG applications take off in a big way in India.
Concerns

And it is this dependence on government spending and policy initiatives that can limit or postpone the company’s domestic growth avenues. On the export front, while demand continues to remain stable, the company’s earnings may be susceptible to the highly dynamic forex market.

That in the last quarter, the company suffered a Rs 12-crore translation loss on its FCCB may help put this earnings risk in perspective. These apart, delays in the production ramp-up of new plants also pose a downside risk.